You thought the machinations in The Social Network were bad? Well, Mark Zuckerberg just effectively declared himself dictator-for-life at Facebook.
On the same day this week that Facebook declared record earnings, Zuckerberg also announced that he intended to consolidate his iron grip on the company by creating a new class of non-voting stock, which soon will make up the majority of Facebook’s outstanding shares.
Right now, due to Facebook's dual-class stock structure, Zuckerberg controls Facebook while owning less than 18% of its stock. With his outright majority of shareholder votes, he can hire and fire the entire board at will, and he answers to no one. But that’s not enough for the Facebook founder. The minute that the new non-voting shares are issued, Zuckerberg will be able to retain his outright control of the company with a mere 5% of shares.
It doesn’t end there, either. Facebook is entirely open about the fact that it intends to issue huge numbers of new non-voting shares in the future. The new class of shares, says the company in an SEC filing, "will also allow us to make one or more large stock-based acquisitions and to continue to grant equity awards to our service providers, without affecting Mr. Zuckerberg's majority voting control over us." ("Service providers", here, includes standard equity awards to employees, who from here on in are going to be receiving non-voting stock.) As a result, Zuckerberg could, theoretically, see his ownership of Facebook shrink to 1% or less, and he would still be answerable to no one.
How can such a move possibly be justified?
For one thing, Zuckerberg has timing on his side: no one likes to argue with success, and Facebook is an insanely successful company. Its 13,598 employees generated $2 billion of profit just in the first three months of this year – that’s $50,000 of profit per employee per month. More than a billion people use its flagship product every day, and that number doesn’t even include the company’s other services, such as Instagram and WhatsApp. Facebook’s stock-market valuation of $342 billion – double that of Disney – represents its status as a global cultural phenomenon. Since the company has been controlled by Zuckerberg from day one, why would anybody want to change that?
The answer is that absolute power is never a good idea. Looking back, a lot of the credit for Facebook’s ascendancy can indeed be ascribed to the product and leadership skills of its founder and CEO. But it’s still very much a team effort.
Most great managers run companies by hiring people smarter than themselves, and then delegating power and authority; there's no reason Zuckerberg shouldn't run Facebook the same way. The CEO, after all, is just 0.007% of Facebook’s employees, and 0.00000006% of Facebook’s monthly active users, all of whom also contribute in some way to the company’s success.
If Zuckerberg has done his job well, then Facebook really ought to be able to grow and thrive even if he doesn't control the board. After all, he is popular enough with the board, with his shareholders, and with his employees that he can surely make any big decisions he likes without worrying about being overruled. What's more, his senior management team can also be trusted to make decisions that are in the long-term interest of the company.
And yet, the board of directors seems to think that this globe-spanning behemoth still can't really stand on its own two feet, and needs Zuckerberg’s control more than ever.
Here, for instance, is something the board actually writes, on page 61 of Facebook’s 183-page proxy statement:
The Reclassification will provide our board of directors with the ability to prolong the period of time during which Mr. Zuckerberg maintains majority voting control over us, which, as noted above, the Special Committee and the board of directors believe is in the best interest of us and our stockholders.
The board, here, is saying that if Mark Zuckerberg thinks one thing, and every single other member of the board disagrees, then it is in Facebook’s best interest for Mark Zuckerberg to be able to overrule all of his board members and go ahead and do whatever he wants. That might have made sense when Facebook was a $1 billion, 2-year-old company. But it's not obviously true now that Facebook is a $350 billion company, with 13,500 employees and over a billion global stakeholders. Why, exactly, should Facebook remain in the hands of one man, for as long as that one man wishes to remain in control? And why does the board want it that way?
More to the point, why does Zuckerberg want it that way? The power involved here is immense. There are lots of very good reasons why most huge companies have built-in checks and balances, whereby no one individual has emperor-like dominion over everybody else. Power corrupts, after all. And by creating a new class of non-voting shares, Zuckerberg now has the ability to extend his absolute power indefinitely, without any of the usual worries about dilution. (The one thing he's given up: he can no longer pass that power on to his heirs, or exercise it after he has resigned from his executive role at Facebook.)
Think about it this way: Mark Zuckerberg now, almost literally, has the power to print money.
For instance: let’s say that Zuckerberg came to the decision tomorrow that he wanted to buy all of the major privately-owned news outlets in the world. He could now do that, if he wanted to, paying for them all in newly-issued non-voting stock. There might be a few holdouts, but when offered stock worth billions of dollars more than the fair value of their company, most boards will ultimately acquiesce to such an offer.
Such a move might be bad for Facebook’s share price, since the existing shares would be diluted by all the new ones. Existing shareholders and board members could protest. They could even vote against the deals. But because Zuckerberg controls the majority of the votes, he can do what he likes. As a billionaire who has pledged to give away 99% of his wealth anyway, he might happily accept a falling stock price if that gave him vastly more power to influence the world.
The point here is that even a falling share price is still a very powerful acquisition currency, and that since Zuckerberg can print as many non-voting shares as he likes, he can effectively create money and give that money to whomever he likes, without giving up any control of his company. He could even merge Facebook with a company bigger than Facebook, and still retain control.
For instance, Alphabet, the parent company of Google, is currently worth $475 billion. Zuckerberg could offer to buy it, in an all-stock transaction, for, say, $700 billion, and the Alphabet board would have a fiduciary obligation to take the offer seriously. The combined company would be owned mostly by current Alphabet shareholders, but it would be controlled by one man, and one man only.
Is a Facebook/Google merger going to happen? No. (The world’s anti-trust regulators wouldn’t allow it, for starters.) But the thought experiment is instructive, because it helps to show just how much power Zuckerberg is being given. He can acquire companies around the planet, overpay by as much as he likes, and there is effectively nothing that his shareholders or his board can do to stop him. (They can try to fire him for “Cause”, but that is very, very difficult, and requires proving that he is “willfully or deliberately” acting “in bad faith and without reasonable belief that the Founder’s action or inaction was in the best interests of the corporation.")
In a 1998 speech to the House of Commons, the great British parliamentarian Tony Benn said this:
The House will forgive me for quoting five democratic questions that I have developed during my life. If one meets a powerful person—Rupert Murdoch, perhaps, or Joe Stalin or Hitler—one can ask five questions: what power do you have; where did you get it; in whose interests do you exercise it; to whom are you accountable; and, how can we get rid of you?
It’s worth asking these questions of Mark Zuckerberg. One can guess at the answers:
What power do you have?
Absolute power, over one of the biggest and most powerful corporations in the world, which straddles continents and which can print its own currency.
Where did you get it?
From the U.S. stock market, which started to allow non-voting shares in 1986. And from a Special Committee of the Facebook board, comprising Susan Desmond-Hellmann, Erskine Bowles, and Marc Andreessen.
In whose interests do you exercise it?
To whom are you accountable?
How can we get rid of you?
Remember that Zuckerberg does not arrive at this power by dint of his majority ownership in Facebook; he has no such majority ownership. Rather, his hand-picked board has allowed him to retain absolute control of the company, even as his ownership stake dwindles.
As is so often the case when it comes to questions of money and power, there’s a veneer of philanthropy here. Colin Stretch, Zuckerberg’s lawyer, explains that because Zuckerberg intends to give away 99% of his Facebook shares, the new structure is simply “enabling Mark to pursue his important goals through the Chan Zuckerberg Initiative,” his bespoke philanthropic vehicle.
But the whole truth is not nearly as simple as that. For one thing, there’s nothing stopping Zuckerberg from giving away 99% of his Facebook shares under the current structure, while remaining the founder, CEO, and chairman of Facebook, with the full support of his board. That's how the overwhelming majority of successful public-company CEOs work, after all, even the ones who founded their companies. There’s no need for him to create this new class of non-voting shares.
More profoundly, the new structure, at the margin, actually decreases Zuckerberg’s incentives “to pursue his important goals through the Chan Zuckerberg Initiative”. After all, while Zuckerberg’s philanthropy is big, Facebook itself is much bigger. And Zuckerberg has already indicated, with initiatives like Internet.org, that he’s willing and able to use Facebook itself to help advance his global philanthropic goals.
Let’s say that Zuckerberg, in his stated aim to personalize the global education system, decides that he wants to give $1 billion to Khan Academy. One way to do that would be for CZI to sell $1 billion of his Facebook shares, and give the cash to Khan Academy. But another way to do that would be to engineer some kind of “strategic partnership” between Khan Academy and Facebook, whereby Facebook would start serving up Khan Academy courses natively, within its app, or might simply receive the highly-valuable data generated by the Khan Academy app. In return, Khan Academy would receive $1 billion of Facebook non-voting shares, which it could liquidate in the pursuit of its own strategic goals. The gain to Khan Academy, either way, would be $1 billion. The cost to Zuckerberg, however, would be $1 billion in the first instance, and $0 in the second instance.
The Chan Zuckerberg Initiative, for all its wealth, is a philanthropy with finite resources, and limited ability to deploy those resources. Facebook, by contrast, is a huge multinational corporation, with almost unlimited resources. From Zuckerberg’s point of view, therefore, it nearly always makes sense to use Facebook to invest in potentially world-changing technologies, rather than the Chan Zuckerberg Initiative.
The effect of creating a new class of non-voting shares, then, is that Facebook itself is likely to become a de facto arm of the Chan Zuckerberg Initiative, at least as far as anything plausibly for-profit is concerned. And that’s the upside! The downside is that insofar as Zuckerberg prioritizes Facebook’s size and importance over his personal wealth, he has every incentive to overpay for major acquisitions, over and over again. After all, the bigger that Facebook becomes, the more power Zuckerberg will have. Given the choice between controlling a $350 billion company and controlling a $1.35 trillion company, which would you choose?
To put it another way: now that he has control regardless of dilution, Zuckerberg is incentivized to maximize Facebook’s market capitalization, even if Facebook’s shareholders would much prefer him to maximize Facebook’s value per share. So, shouldn’t they have a say in this? Facebook is a public company, after all.
The answer is, Facebook’s shareholders will indeed have the opportunity to vote on whether or not the company should create a new class of non-voting shares. But at the same time, their vote doesn’t make any difference. As the proxy filing explains,
As a result of his beneficial ownership of more than a majority of each of our total outstanding voting power and the outstanding voting power of the Class B common stock as of the record date, Mr. Zuckerberg has the power to approve the adoption of the New Certificate without the affirmative vote of any other stockholder.
In other words: this change is going to get pushed through, whether Facebook’s shareholders like it or not. They should vote against it, though, all the same. Just to show Zuckerberg that even if his board is made up of pushovers, the rest of the world might not be quite as friendly.